Private credit was promised to fill the void left by banks' withdrawal from lending to small and medium-sized enterprises. Its growth has been dramatic, with the market expanding from $1.5 trillion to $2 trillion, and private credit management companies raising nearly $1.3 trillion over the past decade. In 2023 alone, these managers raised $135.7 billion. This is more than double the annual total from a decade ago.
The need was real as we found that mid-sized companies with less-than-perfect financial conditions were closing their banks. Banks accounted for just 29% of corporate loans, down from 48% in 2015.
For medium-sized companies, private credit has become a lifeline. Charter Next Generation, a manufacturer of specialty films for food packaging and medical applications, exemplifies the potential for change. When KKR acquired the company in 2021, it launched an employee ownership program for its more than 1,700 employees at the time. Since then, the company has expanded to 13 locations, 18 facilities, and 2,600 employee-owners.
But now, with major funds reporting declines in net asset values due to discounts on non-performing loans, particularly in software-related positions, there are growing concerns about a full-scale collapse. FS KKR Capital, KKR's largest private fund owned by individual investors, announced this week that it incurred a loss of $560 million in the first quarter, equivalent to about 10% of the fund's net asset value, as default rates rose to 8.1% from 5.5% in December.
The lack of transparency in individual trading makes it difficult to estimate market-wide risk. Moody's estimated private credit default rates in 2025 to range from approximately 1.6% to 4.7% (compared to a 1.6% rate in the fourth quarter of 2023 from the Proskauer Private Credit Default Index).
For small businesses, the impact will be significant and will spill over into all lending. Loan terms are becoming more lender-friendly, with tighter contract packages and lower leverage on new loans. The sponsor, which priced the deal at a secured overnight financing rate of +525 last year, is now considering pricing closer to SOFR +575-625 with a comparable credit profile. The Financial Stability Board's May 2026 report warned that private credit at its current scale has not been tested in a deep economic downturn and may now be.
Surviving credit in a high-risk environment
For mid-market companies currently borrowing or considering credit, the changing landscape requires careful strategy. Key considerations for the remainder of 2026 include:
1. Develop a large lender network now
As unappealing as it sounds, CEOs need to invest time and effort into cultivating relationships with various lenders long before they need the money. Reliance on long-standing “relationships” with commercial banks for access to credit is largely a relic of an archaic past. You need to become a savvy shopper and start now casting as wide a net as possible with local, regional and national banks, as well as specialty financial institutions and private credit stores.
2. Prepare for stricter loan conditions
Gone are the days of borrower-friendly deals. Lenders are now demanding tighter contract packages and lower leverage on new originations. Companies need to budget for higher borrowing costs (at least 50-100 bps) and more stringent terms when approaching lenders. As before, the smaller the business, the higher the spread.
3. Anchor rate assumption of “higher over time”
Now, instead of the previous assumption of a 75-100 basis point cut by the end of the year, the Federal Reserve's federal funds target in June is now on hold, with one rate cut expected for the remainder of 2026. Stress test coverage by assuming coverage of 3.50 to 3.75 percent through the fourth quarter.
4. Strengthen documentation and transparency
Regulatory oversight of private credit is increasing. The SEC is investigating valuation practices, and the Financial Stability Board has warned that opacity is a key weakness. Borrowers who can demonstrate strong financial reporting, clear collateral documentation, and transparent cash flow projections are in a better position to secure favorable terms.
5. Carefully monitor fixed fee coverage
Given market volatility, lenders are closely monitoring coverage ratios. Borrowers with fixed rate coverage below 1.10x (less than $1.10 in return for every $1.00 of interest, principal, taxes and capital expenditures) and with financing terms of less than six months are increasingly being marked as candidates for restructuring.
By proactively engaging with your lender before a covenant violation occurs, you can preserve your relationships and options.
6. Assess refinance risk early
Approximately one-quarter of all private credit loans originated in 2021 will mature by 2027. Borrowers who previously benefited from ultra-low interest rates will need to refinance into a higher-interest environment. High-performing companies with stable cash flows are successful in refinancing through club agreements, while more leveraged borrowers rely on structural modifications and extensions or sponsor equity support. Instead of waiting until maturity approaches, evaluate your refinance path now.
